The Five Ways to Lower SME Electricity Prices

Stephen Rose // News // 18th Dec 2018

Small Business is once again missing out. Energy prices for SMEs are higher than almost all other energy users because they are not big enough to get special energy deals, they can’t install solar panels because more often than not they are renters and many are passive electricity consumers who need to use their time more productively than compare electricity deals. Small Business is being ripped off at many levels.

Those who could set a national energy strategy are distracted by a permanent state of outrage with opinions with which they disagree. Most Australians accept the challenge of climate change. The stumbling block is a minority of politicians and population who are in denial. The country is without a strategic plan to deal with the energy mix, emission levels and prices of electricity.

SME electricity customers have faced a price increase of around 50 percent in real terms over the last decade.

Despite the big price increases, SMEs have two things in their favour when it comes to energy costs.

Electricity is a relatively minor cost for most service industry based SMEs. As a rule-of-thumb electricity costs are about 10% of the cost of rent.

The ACCC has a plan to restore Australia’s competitive advantage in electricity.

The ACCC recommends a “reset” for the National Energy Market (NEM) with two different interventions:

Boosting competition; and

Lowering costs.

To understand why the electricity prices are as high as they are, we need to look at the three components in the electricity supply chain: wholesale electricity generation, distribution from the power source to where it’s needed and retailers who market their services. A fourth factor is the encouragement of carbon reduction.

How did we end up with high prices?

The electricity sector has five major issues:

Wholesale Power Generation - governments have made decisions that concentrated market power.

Power Network Distribution - regulation of these monopolies was relaxed. As a result reliability standards for networks were set too high.

Gas-powered generation – high priced gas has become an important generating fuel with the exit of large coal‑fired plants.

Solar feed-in tariff schemes were initially excessive. Similarly, the subsidies for large-scale wind and solar were compelling for business but were indifferent to demand requirements.

Competition in generation

There are entrenched levels of concentration in the electricity generation market.

The current electricity market started with Jeff Kennett’s privatisation of the state-owned SECV in the ’90s. What seemed like a good idea at the time was to drive efficiencies and to give lower prices and better service. For a long period, there were affordable prices for consumers because initially, the market was over-supplied with power generation.

That came to an end with the exit of old coal-fired power stations. Prices went higher. This would normally have been a signal for new investment. Gas-powered generation would have been the logical replacement for lost coal‑fired capacity. However, gas prices have tripled in recent years.

Network costs

There has been significant over-investment in networks, driven primarily by excessive reliability standards. This has enabled distribution network operators to claim billions of dollars of extra revenue from consumers.

Retail Costs

The competitive advantage enjoyed by the big three vertically integrated retailers (AGL, Origin and EnergyAustralia) make it difficult for smaller retailers to compete effectively in the market. Smaller retailers are competing only for the ‘active’ switching part of the market. Incumbents have benefited from many SME customers who are disengaged from electricity price shopping. They remain on high-priced standing offers. Disengaged SME customers effectively cross-subsidise, retention of active consumers.

For example, in Victoria, 17% of SME electricity customers are on a standard contract compared to only 9% of residential customers. This is not surprising, Alviss Consulting in their “Small and Medium Enterprise (SME) Retail Tariff Tracker Project” identified a confusingly large number of about 2700 retail electricity offers nationally. SMEs can use their time much better.

Low Electricity Industry Profits despite high prices

Surprisingly, the big three in electricity retailing earned a low return on their capital (5.5%) despite controlling almost half of the retail market for electricity in 2017. The vertically integrated giants have focused on offering very deep discounts to the large industrial customers. The average Commercial price was 15.4 cents per kWh. While the average SME price is 26.5 cent per kWh. This 40% higher price is another example of cross-subsidising by SMEs of large businesses.

Environmental costs

Solar feed-in tariff schemes have also had effects on energy affordability. Those property owner-occupiers who have installed solar have benefited from the initial generous solar feed-in tariffs. SME leasees have been the cross-subsidising losers.

While there has been inaction at the national level, small business has been taking action. Their energy costs have reduced from what they would have otherwise been by using more efficient LED lighting, moving away from desktop computers that stayed on 24 hours, installing better building insulation and the wider use of double glazing. However small business finds it difficult to reduce the operating cost of systems provided by their landlord, such as air-conditioning.

ACCC recommendations for SMEs

The ACCC estimates that small businesses can achieve savings of 24 per cent on 2017–18 prices if ACCC recommendations are adopted.

The ACCC’s recommends abolishing the current standing offers and replace them with a regulated ‘default offer’ for SME customers. Similarly, restricting conditional discounts to a reasonable saving (such paying on time) should also apply to offers for small business.

The path to lowering electricity prices for small business is clear. The ACCC prescription is a simple application of market-place fundamentals.